In the 10 years following the Great Recession, significant numbers of home equity lines of credit (HELOCs) were booked. Now, as we navigate another recession, the balances on those accounts are catching up with customers – and the banking industry – in a big way.Many of these HELOCs were structured as 5/15 deals, so named for the length of their draw and repayment windows. In the case of a 5/15, customers would draw – or take out money – against the approved line for five years, then go into a 15-year repayment phase for whatever amount they withdrew. But the conversion to repayment phase often brings notable “payment increase shock” since monthly payments can be up to five times what they were during the draw period.
For some additional context, HELOCs are typically structured either as a draw/repay (again, typically for 5/15 years, but sometimes 10/15 years) or an interest-only/balloon model (most often 15 years of draw during which borrowers pay interest only, and then a final balloon payment at the end). In the interest-only cases, customers usually sell or refinance their home before the balloon payment is due. But in today’s world, refinancing is difficult – even if consumers have the equity –because many just don’t have the income.
So now a large number of payments are coming due on some of the $386 billion in HELOC balances as our nation’s economy is struggling in the headwinds of the COVID-19 pandemic, which has resulted in job losses and other financial hardships. And because those touted federal stimulus checks were spent primarily on daily necessities, consumers missed payments on 100 million loans of all types in March and April alone.
Looking back, consumers booked HELOCs – generally to open a line worth up to 85% of their home’s appraised value – when economic conditions were strong. But now, faced with a substantially higher monthly obligation or an approaching balloon payment and potentially lower or less stable income, HELOC borrowers might not be able to afford or refinance their way into a healthier solution. Unfortunately, they may forced to sell their home or default on their mortgage (meaning they might also lose their home) and still not be able to settle this debt.
Beyond market conditions, banks need to ensure their eyes are wide open to what’s happening in their HELOC environment. Now is the time to take a comprehensive assessment of the state of their portfolios, analyze the effectiveness and compliance of end-to-end processes, and create impactful offers that truly help customers regain their financial footing. Regulators look favorably on proactive programs that help customers keep their homes, and banks benefit by avoiding charge-off costs – not to mention further losses if they follow the mortgage company for any recoveries.
Spinnaker’s industry experience shows that the average usage of a HELOC is about 50% of its value, with the average balance nearing $120,000. Not surprisingly, consumers who find themselves in delinquency have hit the top limit of their extended credit. If they were struggling to pay their bills, they likely were tapping into that line again and again, until it was tapped out, as they tried to stay afloat. And if they don’t have the means to manage monthly payments, banks certainly can’t expect them to scrounge up the money for large payoff balances. The result is that most of these consumers will ultimately end up as charge-offs for the full amount.
Unfortunately, many consumers haven’t been able to rely on their banks to provide assistance before it’s too late. Home equity collections departments have been largely underfunded in recent years, creating a major risk for banks at a critical moment. Once the Great Recession cleanup was complete, a lot of senior talent left those collections teams – and now that delinquencies are accelerating, banks need to replace that long-gone talent in short order.
While many banks are finding themselves in the throes of this impending storm, there is a way forward that minimizes risk while providing recovery tools that can help consumers get back on track. Spinnaker’s new Collections and Recovery Optimization offering assesses, fortifies and optimizes an organization’s processes, reducing charge-offs with targeted strategies focused on its most at-risk segments.
In the two years leading up to February 2020, mortgage delinquencies had steadily declined. Then COVID-19 hit hard and fast, and many borrowers found it difficult to keep up with their HELOC payments. As of 2018, home equity lines accounted for a fifth of total originations, making this an important segment to manage effectively.
Spinnaker’s approach starts with a comprehensive portfolio assessment to understand which customers require assistance and could possibly avoid charging off. We also work with our clients to develop more proactive capabilities to help customers, which, in turn, addresses many looming regulatory challenges. As financial times tighten, banks need to be positioned to reach out before it’s too late to give customers meaningful lifelines – strategies they can likely adopt – rather than waiting for customers to contact them and being able to offer only minimal, short-lived assistance that could never resolve their situation.
Starting with analytics, banks can identify and seek out those customers most likely to go into default and start working to fix the problem before it’s too late. That includes reviewing FICO scores, lien positions, loan-to-value ratios and charge-off rates, as just a few examples of valuable data that can gauge the overall strength (or weakness) of a portfolio.
With that data, Spinnaker collaborates with clients to develop robust customer assistance programs, along with improved processes, to offer the right resources to specific customers who need them most. This includes providing clear communication on those programs – modifications, settlements, deferrals and foreclosures – and training phone agents with tailored skill sets to serve HELOC customers.
To be effective, payment options need to be realistic. Too often, banks don’t seem to really understand these customers. For example, it’s helpful to offer a 25% to 75% payment discount, but not while simultaneously requiring delinquent customers to become current on their account to receive it. If they had that money, they wouldn’t be talking to your collections team in the first place.
Next, Spinnaker collaborates with client teams on potential automated tools such as decisioning platforms that can identify the best offer for any eligible customer. Then we work on creative product strategies, such as debt-to-income ceilings on resulting payments and ability to restructure the entire loan (including the rate, balance and term). Even a smaller payment is valuable because it helps stave off the immediate threat of a charge-off. Granted, smaller payments will contribute to bigger final balloon payments, but banks can keep consumers in their homes for a longer time – during which home values might rise and unemployment might drop.
As a natural extension, we also advocate for a 180-degree swivel to reach out proactively – rather than waiting for at-risk customers to call for help – and giving customers a single individual to contact at any point. The more empathy a bank demonstrates in a tough situation, the more responsible and loyal those customers will be.
In parallel, we look for and identify operational gaps and other risks across the work stream by tapping into our industry expertise. Are systems working as designed? Are disclosure documents easy to understand? Are your agents trained on multiple customer options?
Regulators want to confirm that banks are being fair and helpful to customers, which requires tight adherence to related laws and regulations. Through this assessment, the Spinnaker team will recommend changes and updates to resolve issues, which will, in turn, enhance compliance. The final step is developing comprehensive reporting and monitoring tools to help bank leaders understand portfolio performance and identify opportunities to adapt to changing market conditions.
Given the recent economic downtown and continued consumer financial hardship, is your bank looking for guidance on the best ways to manage its HELOC collections? Contact Spinnaker to find out how to build better charge-off and recovery forecasts while also improving your processes to meet regulatory requirements. Our approach ultimately ensures you can provide the best service to your customers at the moments that matter.
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